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Life Under A Balanced Budget


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LIFE UNDER A BALANCED BUDGET

America the Solvent will be a different place--socially, politically, economically. Change will be wrenching--and well worth it

Could it really happen? For years, angry voters have demanded fiscal discipline from their big-spending national government. For decades, economists have warned that high deficits were crushing national savings and stifling private investment. And for a generation, politicians have used the budget as an opportunity for partisan finger-pointing. Now, Washington finally seems ready to stop squabbling and actually ink the long-awaited fiscal Deal of the Century.

Sure, the pols have vowed to end Uncle Sam's addiction to deficits before. There was the Gramm-Latta amendment and the Gramm-Rudman Act. There were "sequesters" and "discretionary spending caps" and the Contract With America. All for naught. But on Feb. 6, President Clinton will propose a fiscal agenda that promises a zero deficit by 2002. And while Republicans will criticize the details, they'll embrace Clinton's plan as a step toward achieving a goal they share. And that could, finally, launch Washington toward fiscal discipline.

Balancing the budget by 2002 may have the ring of a bumper-sticker slogan, but it will have profound consequences on the U.S. and global economies, the future of many businesses, and the government's compact with the public. Says AlliedSignal CEO Lawrence A. Bossidy: "It will force the country to decide what is important, what we can afford, and what we cannot."

If the budget can actually be balanced on schedule and without gimmicks, and if Congress and the President can keep it out of the red, the payoff will be striking. Once the deficit really sinks toward zero and the government's appetite for debt ebbs, interest rates will start falling. How much, no one knows. But economists say they'll certainly be lower than under a continuation of big deficits. Tens of billions of dollars in new cash will flow to private investment. Says U S West Chairman Richard D. McCormick: "Companies are going to benefit because the country will be stronger financially."

But there will be losers as well as winners. Bondholders may reap handsome profits, but the poor and elderly could see their benefits trimmed for everything from food stamps to health care. Interest-rate-sensitive industries such as real estate and manufacturing will come out well. Many health-care and defense companies could take a pounding. So may businesses that rely on government infrastructure, including airlines and truckers, as well as companies heavily subsidized by Washington, such as producers of ethanol (page 36). States and cities, faced with providing services once offered by Uncle Sam, could lose out as well.

TOUGH DEADLINE. The details of this year's budget agreement are growing more apparent. Clinton is proposing $138 billion in Medicare savings over six years, a $100 billion tax cut, and a spending freeze on most domestic programs except for education, which would get a big boost. Though the Republicans have fundamental differences on the details, they're within shouting distance on the broad spending figures. Growth in Medicare spending will be cut by slashing reimbursements to doctors, hospitals, and managed-care companies. Except for Social Security--which will remain largely untouched--and interest on the debt, all other government spending will remain frozen at 1993 levels for at least the next five years. After adjusting for inflation, that means a cut of 20% to 30% in the government's ability to deliver services. The one sweetener: modest tax cuts on capital gains and for families with kids. On Jan. 29, an upbeat President Clinton predicted, "on balance, I'm still quite hopeful" for a budget deal this year.

Still, meeting the 2002 deadline will be difficult--especially if, as is likely, there's a recession in the interim. And even if a balanced-budget deal can be crafted, it won't produce economic nirvana overnight. After all, the deficit has already been slashed from a record $290 billion in 1992 to $107 billion in fiscal 1996. The final push to get to a zero deficit will only continue that trend. "It's more of the same, and that's good," says former CBO Director Robert Reischauer. Still, he adds, "Harry isn't going to lean across the breakfast table and say to Louise: `I feel so energized by this balanced-budget deal."'

That's partly because the red-ink warriors are afraid to take on some explosive issues. Both Medicare and Social Security face insolvency without long-term structural reform. However, those massive entitlements, which will eat up nearly 40% of the budget in 2002, won't be overhauled. The likely Medicare changes, for instance, will only buy the program another few years of solvency. So a budget deal will offer only a fleeting taste of balance. After 2002, the deficit will start ballooning again. And that will be true even if an amendment for a balanced budget is adopted.

TUMBLING RATES? Even so, just getting to balance in the short term would set in motion huge changes. In recent weeks, healthy economic growth and the bond market's unrelenting inflation-phobia have driven up interest rates. And bond vigilantes won't start buying debt just because government promises a balanced budget. But real movement toward balance could start pushing rates down. Indeed, Pasquale J. Rocco, senior economist at Wefa Group, an economic consulting firm, figures long-term rates would drop by a percentage point over four years, relative to where they would otherwise be. And Federal Reserve Board Chairman Alan Greenspan is convinced that long-term balance that includes reforms in Medicare and Social Security would have a further powerful downward impact on yields: "We can find ourselves with fairly dramatic declines in long-term rates," he predicts.

Falling rates, in turn, would boost private investment. David A. Wyss, research director at economic consultants DRI-McGraw Hill, figures that a one percentage-point decline in yields would mean $100 billion in new economic stimulus and would increase net capital spending from the current 4% of gross domestic product to 4.5%.

Lower rates aren't the only economic payoff. Harvard University economist Jeffrey D. Sachs calculates that for every percentage-point reduction in the budget deficit as a share of GDP, the U.S. trade deficit shrinks by half of a point. Adds Tokyo-based Kenneth S. Courtis, chief economist with Deutsche Bank Capital Markets (Asia): "A credible reduction in the U.S. budget deficit would take a lot of risk out of the world economy and take pressure off of global capital markets."

FLYING SOLO. The gains would flow quickly through the U.S. economy. Indeed, if the budget remained balanced through 2030, a recent CBO study figures that real per-capita GDP in the U.S. would rise by an additional 25%--a huge increase. For Senate Budget Committee Chairman Pete V. Domenici (R-N.M.), it's a no-brainer: "Lower taxes, lower interest rates, more growth in the American economy."

Beyond economic gains, a balanced budget would change the relationship between Washington and the public. Ever since the New Deal, the feds have been considered the nation's No.1 problem solvers. But in an era of fiscal restraint, people would be forced to look closer to home for solutions. The result: "Dramatic, structural changes in government," argues Will Marshall, president of the Progressive Policy Institute, a centrist Democratic think tank.

Since the 1960s, Washington has ducked tough choices. The public came to believe it was entitled to both generous government programs and big tax cuts. Balancing the federal books now will mean a wrenching change of mindset--one that many are still not ready to make. "We as a society have been unwilling to pay for the amount of government we want," says Barry K. Rogstad, president of the American Business Conference, "We have to come to grips with that."

But should Washington reach fiscal balance, a powerful step will have been taken toward restoring the confidence of the markets and the public. Says Treasury Secretary Robert E. Rubin: "It maintains an atmosphere of fiscal responsibility that is absolutely critical to having low interest rates."

The big question, of course, is whether the government can stick to fiscal discipline for long. Political opposition aside, some economists fear that a budget regularly in balance will constrain Washington's ability to soften economic downturns. Today, when the economy slows, spending for a host of programs from unemployment insurance to food stamps automatically rises and swells the deficit. Without that countercyclical stimulus, recessions might be longer and deeper. That would be especially true if a balanced-budget amendment barred government from running deficits. "I fear this will put budget policy in a straitjacket," says Brookings Institution economist Gary Burtless.

Even in good times, balancing the federal books will tear into the nation's already frayed social safety net. Medicare reforms will mean the elderly will pay more for health care and perhaps receive less. Federal welfare spending has already been slashed. And noncash aid will likely be trimmed as well. Housing assistance, for instance, has been cut by 25% since 1993 and faces even deeper cuts in coming years. Cities and states will have greater burdens pushed onto them, and unless they can run programs more efficiently, their taxpayers will end up paying more to support those services.

Most governors are willing to live with less from Washington. "You've got to deal with our financial debt," says Ohio's Republican Governor George V. Voinovich. "That may very well mean [state and local] government will have to pick up a larger share of the costs." But they don't want to be forced to use their own money to comply with requirements dictated by a cash-strapped Uncle Sam. Says Florida's Democratic Governor Lawton Chiles, "If we get a balanced budget and mandates, then we'll have the worst of all worlds."

Some industries also will pay the price. Just as the defense business suffered when government began slashing military spending in 1989, deep new spending cuts in other areas could squeeze markets and increase costs elsewhere in the economy. Health-care providers will see a sharp drop in Medicare and Medicaid payments. The biggest losers: nonprofit hospitals, specialist physicians, and health-maintenance organizations.

Home health care is a good example. In 1994, nearly 75% of payments for such services came from Medicare and Medicaid. If that cash flow is squeezed, some companies will see their gravy train derailed. Predicts Robert A. Fusco, president of Olsten Health Services Inc., a Melville (N.Y.)-based home health-care company: "Those that don't adapt will ultimately be out of business."

And companies that use the federal infrastructure or regulators, such as truckers, broadcasters, and airlines, could see a steep rise in their expenses as the deficit-conscious government shifts costs from taxpayers to users and their customers. "We're already paying more than we get out," frets John J. Collins, senior vice-president of the American Trucking Associations.

The truckers will have to wage war with every other interest group in Washington over a shrinking pie. A huge chunk of cuts has to come from "discretionary" programs, the third of the budget that is funded annually. These programs, ranging from the Environmental Protection Agency to the FBI to the federal highway system, will be subject to bloody battles for bucks. It will be the same on the tax front as new breaks for some are likely to be funded by closing loopholes for others.

"SHARK TANK." Longtime National League of Cities budget lobbyist Frank Shafroth calls the new reality "life in the shark tank." And it will change the way politics is done both in Washington and in state capitals. Companies will have to focus on regional or industry alliances rather than just counting on party loyalties. "It's kind of like learning to play three-dimensional chess," says Jennifer Laszlo, a political and business media consultant.

If the Democrats and GOP in fact find common ground, it will be because both parties believe a fiscal deal will serve their own interests. Republicans can claim that their decades-long calls for fiscal responsibility have finally paid off. And a deal with Clinton could neutralize the withering partisan criticism they faced for trying to trim the growth in Medicare spending.

For their part, moderate Democrats figure that a deal will be yet another step toward the political center. The end of the cold war has taken anti-communism out of the Republicans' arsenal. By signing the welfare reform law and taking a tougher stand against crime, Clinton has weakened charges that the party is controlled by soft-hearted liberals. Now, support for a balanced budget will help them shed their "tax-and-spend" label.

This is one case, however, where even self-serving pols may be acting in the best interest of the nation. Restoring fiscal discipline is long overdue, and it can help provide a powerful boost to the economy. If they distribute the pain and benefits fairly while ending irresponsible deficits, they will have pulled off a historic achievement--one that could raise the American standard of living and U.S. standing in the world economy.By Howard Gleckman and Mike McNamee, with Richard S. Dunham in Washington and bureau reportsReturn to top


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